Obama Administration Finds a Way to Get Businesses Borrowing Again

It has induced some companies to borrow in order to pay special dividends:

Companies that issue dividends, or are considering special dividends, are being pushed by shareholders to issue them before year-end because of rising concern that any deal in Washington to avoid the so-called fiscal cliff — of tax increases and spending cuts that looms at the end of the year — could include letting taxes on dividends rise.

For some companies, issuing debt to pay dividends makes sense right now because interest rates are so low and bond investors are clamoring for more securities, especially from companies that don’t issue regularly. If they can cheaply finance a boost in their stock prices, some companies will take that, even if the idea is detrimental to their own bondholders, because it adds to company debt obligations without boosting growth or their ability to pay back the debt.

Debt sales to finance dividends haven’t been very common since the credit crisis began in 2008, because both stockholders and bondholders have less appetite for something seen as a little more precarious to a company’s health.

But bondholders are now allowing companies to do it relatively cheaply because they’re so desperate for yields on corporate debt that are often just slightly higher than what is available on Treasury bonds.

This means that firms are leveraging themselves to pay off their shareholders. That debt could have financed additional investment, R&D, or acquisition of other firms. Instead, firms are going to the debt market, or even to banks, to turn equity into debt — all because the President is insistent that dividends be taxed as ordinary income. If you wanted there to be less leverage in markets as a matter of public policy, you would want dividends to remain tax-preferred.

(UPDATE: A Twitter comment pointed me to the fact that Costco’s credit rating was cut by one agency after the special dividend announcement.)